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Tax Administration: IRS Should Take Steps to Improve the Accuracy of Schedule K-1 Data

GAO-04-1040 Published: Sep 30, 2004. Publicly Released: Nov 01, 2004.
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Highlights

Over a trillion dollars in income was distributed in tax year 2002 by flow-through entities, such as partnerships, subchapter S corporations, and trusts, to their partners, shareholders, or beneficiaries, respectively. The Internal Revenue Service (IRS) estimates that from 6 to 15 percent of such income is unreported on individual tax returns. This income is reported to both IRS and to the recipients on a Schedule K-1 (K-1). IRS uses K-1 data in its document-matching program to identify noncompliance and for other purposes. GAO was asked to (1) assess the accuracy of K-1 data, specifically transcription errors and taxpayer identification numbers (TIN); (2) determine whether any limitations in the availability or accuracy of K-1 data have affected IRS's ability to identify noncompliance; and (3) identify the benefits and challenges of increasing e-filing of K-1s.

Recommendations

Recommendations for Executive Action

Agency Affected Recommendation Status
Internal Revenue Service To improve the availability and usefulness of Schedule K-1 data to IRS for detecting noncompliance, IRS should conduct a pilot study to determine the benefits and costs of requiring flow-through entities to correct invalid TINs on K-1s as soon as it has been determined that the TINs cannot be "perfected" via IRS's TIN validation program.
Closed – Implemented
From January 2005 to July 2006, IRS conducted a study to determine whether some recipients of Schedules K-1 (K-1) with invalid payee taxpayer identification numbers (TIN) were reporting flow-through income on their tax returns and whether there were indications of other types of noncompliance that a matching program would not detect. The study found that, for the population it studied, some compliance risk exists for individuals either not filing or underreporting K-1 income, but the level of noncompliance was consistent with that found in the population of recipients of K-1s with valid payee TINs. The study also found no clear patterns of deliberate misreporting to avoid income tax. In August 2006, IRS estimated the maximum potential revenue from a K-1 TIN perfection program to be nearly $2 million. According to IRS, the benefits calculated were limited to measurable benefits from the IRS document matching and non-filer programs and did not include immeasurable benefits, such as improving data for research or examination purposes. In September 2006, IRS reported several options for perfecting TINs, with costs ranging from $521,000 to $3,300,000. In November 2006, IRS executives and program managers concluded that estimated costs were high relative to potential benefits and decided not to implement any changes at that time but would consider other options in the future, as appropriate.

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Topics

Computer matchingData integrityE-governmentElectronic formsIncome taxesInformation systemsNoncompliancePerformance measuresSystems evaluationTax administrationTax administration systemsTax returns